April 26, 2013

We closed out
losing trades in the S&P and QQQ ETFs on Thursday which effectively wiped
out our gains in trading them last week. We also added Juniper to accounts at
$15.95 (sold last week at $18.06) when it dropped on a disappointing second
quarter forecast.

During the week a phone twitter message that had
the AP reporting the White House was bombed caused a 3 minute 140 point
drop/recovery in the DJIA and on Thursday the CBOE couldn’t open trading for 5
hours because of a computer glitch. Otherwise the week’s trading was normal
with the major stock measure rising to new highs before pulling back a tad on
Friday.

We have missed this year’s run because of our
caution but such is life. We remain mostly cash and content to be patient.
Until Thursday night lousy earnings caused stocks to go up. Good earnings caused
stocks to go up. Then Amazon missed Thursday night and given that it trades at
200 times earnings some sanity prevailed and it dropped on Friday initiating
the overall Friday market stall.
*****

April 12, 2013

We sold GM warrants and bought back Intel and did a change
of mind day trade in JC Penney during the week. In many accounts we
also added the triple short S&P 500 ETF (SPXU) and in a few accounts we
added the double short NASDAQ 100 ETF (QID). We did this as the markets made
new all-time highs. Those two positions hedge our ‘long’ holdings and
offer a trading opportunity for gains on any pullback. The major measures have
been on a bull run for 70 sessions and that is a record. A pullback is coming.
Of course we have been expecting the pullback since year-end 2012 but luckily
we caught all of last year moves and have a good profit cushion to ride while
we wait.*****

1. Confirmation Bias
This is a fatal flaw of trading; we tend to surround ourselves with information that validates our own point of view and dismiss input that conflicts with our reasoning (also known as cognitive dissonance). This is the primary reason why we always strive to see “both sides of every trade” as the residual grist between variant views is where education—and profitability—resides.

2. In-Group Bias
This is a manifestation of confirmation bias, or the tendency to surround ourselves with those who share similar takes on the tape. This could pertain to our physical environment or a virtual experience, such as Twitter. Not only does this provide a false sense of security in our individual viewpoints, it makes us suspicious—or angry—with outsiders who dare to question how we feel. (See also: The Gold Scold.)

3. Gambler’s Fallacy
One of the most famous disclaimers in finance is that past performance is no guarantee of future results. This bias is often referred to as a “glitch” in our thinking in that it extrapolates what happened in the past to construct an idea of what will happen the future. How many of you have played roulette at a casino under the premise that a string of red increases the likelihood of a black outcome? That’s flawed thinking; the odds of red (or black, for that matter) or 48% on each independent spin.

4. Post-Purchase Rationalization
One of our Ten Trading Commandments is that the definition of an investment should never be a trade gone awry. Nobody initiates market exposure expecting to lose money, but we should never post-rationalize our risk (such as ignoring stop-losses or throwing good money after bad). We would be wise to remember that good traders know how to make money but great traders know how to take a loss.

5. Neglecting Probability
History is littered with stretches where in hindsight we’re reminded not to confuse brains with a bull market. This bias limits our ability to properly assess risk, whether it’s overstating an unlikely event (such as buying a stock for a takeover) or understating an unlikely event (such as Y2K, the fiscal cliff, or a terrorist attack). Tail events do happen, of course, but betting on an outlier is a long shot by its very definition.

6. Observational Selection Bias
This is when we suddenly notice something we haven’t noticed before, and wrongly assume the frequency has increased (when it hasn’t). Let’s say I bought cannabis stocks as a way to play (what I perceive to be) the legalization of marijuana. All of a sudden, everywhere I look, there are more and more signs that support my thesis; the topic is featured on 60 Minutes, it’s a hot-button issue during the election, it gained momentum in the mainstream media. While some of that may prove true, I am on the lookout for news, whether it’s conscious or not.

7. Status-Quo Bias
Most of us are creatures of habit in our own way; we use the same toothpaste or align with a particular smartphone device. That routine often extends to our investments in the marketplace; we’re comfortable with the stocks (or indices) we often trade and often miss opportunities outside of that comfort zone for fear of the unknown. Change isn’t only positive, it’s inevitable.

8. Negativity Bias
Let’s face it: We live in a sensationalist society where scare tactics and negative headlines garner the most attention. If you doubt this for a minute, turn on your local news tonight. Scientists theorize that we perceive negative news to be more important than positive news. The risk—for the bears and for humans as a whole—is the tendency to dwell on bad news rather than embrace good news, and there’s the added twist that the stock market is widely considered to be a leading indicator.

9. Bandwagon Effect
How prevalent is this when it comes to the financial markets? They teach it in college as a stylistic approach (momentum investing)! Nobody in our business—or in the media—wants to miss a move in the stock market, and history is littered with bubbles and busts that demonstrate this bias in kind. In life, this is driven by our innate desire to “fit in and conform"; in the markets, it’s driven by two factors: fear and greed.

10. Projection Bias
This is predicated on projecting our thoughts and beliefs onto others and assuming that others are wired the same way (they’re not). This can lead to "false consensus bias," which not only assumes that other people think like we do, but that they reach the same conclusions. In short, this creates a false consensus, or sense of confidence when in fact one doesn’t, or shouldn’t, exist.

11. The Current Moment Bias
This is a direct descendent of the immediate gratification mindset that dominated society for many years—and some will argue that the government is currently operating in this mode, mortgaging our children’s standard of living to achieve short-term fixes. In short, we want to live as well as possible and pay for it at a later date (as evidenced by the level of debt and our growing deficit). The housing crisis was rooted in this bias, as is the basic concept of leverage.

12. Anchoring Effect
This tendency, also known as the relativity trap, compares a situation to a limited sub-set of information; it’s when we focus on a number or value and extrapolate it to a current situation. This often manifests in the marketplace through the fundamental metric, when we observe that a stock is “cheap” relative to its peers or a historical precedent (also known as a “value trap”).

Amnesty
International released its annual review of death sentences and executions
around the world. The review found the five biggest executors in 2012 were
China, Iran, Iraq, Saudi Arabia and the USA. It also found that the number of
countries that abolished the death penalty rose to 97 and progress toward
abolition of the death penalty was made in “all regions of the world.” The
human rights organization reported,
“In the Americas, the USA remains the only country to carry out executions.”

April 5, 2013

The Employment report was up
88,000 but missed by 100,000 and markets sold off in the AM. The week saw a
pattern of up then down days and the miss may be the excuse for a pullback from
the all-time highs of last week.

As the week began Investors
Intelligence reported 52% Bulls and 19% Bears confirming the old adage that
positive sentiment increases as the markets rise. A high Bull percent is
usually a negative indicator because there are fewer folks left to buy and more
folks willing to sell to lock in profits.

This week we sold Apple,
Facebook and Deutsch Telekom at losses to get more cash
on hand. We are 10% to 20% invested in most accounts.

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